How SWKS ups margins without irritating customer

I was thinking about how SWKS can be increasing their margins so rapidly without annoying their customers, and I think I’ve figured it out:

1 - It used to be mostly single function chips, acquired from one or multiple suppliers.

2 - The customer had to pay for each chip component separately and then put all the components together and make them work together.

3 - Let’s say SWKS puts five components together in a single system, the function of which they’ve planned out in advance with the customer.

A - That’s much easier and surer for the customer, and they know it will work right off the bat.
B - The incremental cost of adding each component is probably quite low for SWKS.
C - This means they can charge considerably less for the sophisticated combined chip than the cost of five separate chips, and still make a higher margin percent on what they are selling.
D - Everyone is happy! Customer is happy because price is lower, and everything works together. Big improvement in convenience for them. SWKS makes more money at higher margin and is planned in right from the beginning. Big improvement for them too. The best of all possible worlds.

Note especially that next cycle, they can add a sixth function, that someone else is supplying now, and sweep it into their chip. Saves the customer a lot. Costs SWKS a little. It’s all integrated besides. Price goes up a little, but overall cost for customer goes down. SWKS makes more revenue at higher margin, and everyone is even happier (except the supplier who was replaced).

Saul

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Hi Saul,
Thanks for sharing your thoughts on why SWKS can have better near future visibility than its competitors while improve the GM to 50% to 55% from current 48%.
There is always something bugging me since I read the MorningStar piece.
As we know, AAPL,Samsung, and other smartphone OEMs always have risk management plans for the sourcing of the components they need for the current and future generations of phones and devices. If SWKS ever becomes THE dominant player in the RF field (maybe they are already), and north of 50% RF component supplier due to the sophisticated and complex design of the integrated chips, the situation will keep those OEM (at least executives at the sourcing departments) up at the night. Simply because of what ifs (one of them may be SWKS manufacturing site issues). There must be some contingency plans at the OEMS. Now QCOM is working on The “Qualcomm RF360 Front End Solution”.
Taking the paragraph from Imuafool’s post:“It would include an antenna tuner, envelope power tracker, integrated power amplifier (CMOS) and antenna switch (ASM) and full packaging solution. In a nutshell, this disruptive technology would solve the problem of 4G LTE and LTE-A band fragmentation where “multiple versions of the same LTE device are required to accommodate the worldwide proliferation of cellular bands (40 plus and counting); the problem gets even worse when you consider the different band combinations required to support LTE-Advanced carrier aggregation.” This is the total RF solution, highlighted above in the tear-down article comment, that techies are aware of and waiting for the first installation.”

Of course, if SWKS participates in the planning and designing of the chipset alongside with the OEMs, it does have big advantage over its competitors. But still…

I own SWKS and big thanks to you and Chris and Anirban, etc., my shares did well so far.

Zangwei

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1 - It used to be mostly single function chips, acquired from one or multiple suppliers.

2 - The customer had to pay for each chip component separately and then put all the components together and make them work together.

3 - Let’s say SWKS puts five components together in a single system, the function of which they’ve planned out in advance with the customer.

Thanks, Saul. Yes, I agree that this is what’s happening. But it’s more than that, I think.

A) The customer also gets to reduce the R&D spending. Less work on integrating the various components. Less work on system test after they’ve figured out the integration. Now, multiply this work by 4 or 5 because the customer needs to make a phone that is compatible for the different bandwidths used in different regions. I think Apple makes 4 or 5 different versions of the iPhone depending on the region. This reduction in expense would get amortized over the number of units sold in the market. For Apple which might sell 200 million phones over the product’s life, the per unit benefit will not be as large as for customers that sell only 20 million units.

B) The customer’s R&D team can focus more on the company’s core competency which is designing products with features that the end users will want and less on working on just getting the phone to work properly. The customer is better off outsourcing tasks which do not add directly to the end user’s desired product benefits.

C) SWKS can gains operating margin because they can design standardized chips that might just need to be modified a little (or not at all) for their many customers. This allows SWKS’s R&D to be spread over many customers whereas if customers all designed their own, the costs would be burdened on each customer. This, it is more efficient for the industry as a whole to outsource the RF design work.

Chris

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For Apple which might sell 200 million phones over the product’s life, the per unit benefit will not be as large as for customers that sell only 20 million units.

This is one reason why Apple makes most of the profits in the mobile phone market. The others don’t have the volume needed to earn much in profit. If Apple is 15-20% of the unit volume and take almost all of the profits, then the others better do everything they can to reduce cost…including development and testing cost. Given the small unit volume of most customers, they can’t afford the type of R&D budget that Apple can afford. Also, the integration has gotten so complex that they can’t do it themselves so they must rely on a company like SWKS.

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